Address the Working Capital early saves deals!

Address the Working Capital piece as early as possible.

For most small business transactions ($15m or less purchase price), the seller gets all the cash & AR. For $25m and higher, the game changes. For today, let's focus on small businesses.

Simple Steps for Working Capital Adjustment:

1. PLEASE outline WC adjustment process in LOI or purchase agreement. Specify what items can qualify in the adjustment.

Items that can adjust up or down are:

-uncollectible AR

-AR

-inventory

-overvalued inventory

-AP

2. At closing a Target WC is determined from the Balance Sheet. *BTW, this is rarely accurate because at any given time money is moving in and out of the business.
   --I like this formula: AR + Inventory - AP - Accrued Expenses = WC

3. When acquisition closes, buyer pays seller full purchase which includes the target WC. *Tip for buyers, go ahead and assume you're paying for WC thus include this in your valuation analysis before writing an offer.

*Another tip, your bank financing the purchase should and will give you an LOC to cover transition WC. Hard to make payroll otherwise:)

4. Moving on, a portion of proceeds sits in an escrow account to cover the adjusted difference after close.

5. Add or deduct the change in WC to the purchase price. Change = sum of all adjustments. This can take###-###-#### days after closing because it can take a while for buyer to close books for a given current time period. Buyer will then provide a closing statement.

6. Seller is entitled to a review period of the closing statement, 30 days.

7. After the###-###-#### days (post-closing):

a. If Final WC > Target WC buyer pays the sellers an amount equal to the difference.

b. If Final WC < Target WC Escrow agent releases an amount equal to this difference from the WC escrow account to the buyer.

Make sense or still blurry? *WC is one of the most argued items in negotiations.

*I'm not an attorney or an accountant, I help represent small business buyers and sellers.